Morals and Markets
Master Thesis Economics
Final Concept July 2014
Behavioural Economics and Game Theory
Faculty of Economics and Business
Supervisor: dhr. prof. dr. J.H. Sonnemans
Contents
1. Introduction ... 4
1.2 Motivation and research question ... 5
1.3 Structure outline ... 7
2. Literature ... 10
2.1 The neutrality of markets ... 10
2.2 The questionability of the neutrality of markets ... 11
2.2.1 Commercialization-effect: change in the perception of goods? ... 11
2.2.2 Degradation of goods due to commercialization? ... 12
2.2.3 Theory for the commercialization-effect: monetary market and social market ... 13
2.2.4 Conclusion ... 15
2.3 Explaining the commercialization-effect: crowding-out ... 16
2.3.1 What is the crowding-out theory? ... 16
2.3.2 Economic approaches to the crowding-out effect ... 18
2.3.3 Net effect of incentives and crowding-out ... 19
2.3.4 Empirical evidence of crowding-out ... 21
2.3.5 Conclusion ... 23
2.4 The increased application of monetary incentives in today’s world ... 25
2.4.1 Why monetary incentives? ... 25
2.4.2 Increased use of monetary incentives ... 25
2.4.3 The questionability of the application of monetary incentives ... 27
2.4.4 Conclusion ... 28
2.5 Are efficient markets always better? ... 29
2.5.1 History of efficiency ... 29
2.5.2 Two objections against efficiency: fairness and degradation ... 30
2.5.3 Efficiency and social norms ... 30
2.5.4 Conclusion ... 32
2.6 Do markets degrade morals? ... 33
2.6.1 Evidence from Falk and Szech ... 33
2.6.2 Three corrupting features of market interaction ... 34
3. Experiment ... 35
3.1 Introduction ... 35
3.2 Experimental design ... 35
3.3 Hypothesis... 38
3.4 Descriptive statistics of participants ... 39
3.5 Experimental results ... 40 3.6 Discussion ... 44 3.7 Conclusion ... 46 4. Conclusion ... 47 5. Bibliography ... 49 Endnotes ... 52 3
“We cannot see anything until we are possessed with the idea of it, take it into our heads, - and then we can hardly see anything else.”
―Henry David Thoreau, Autumnal Tints
1. Introduction
The era of free market orientation coincided with a tremendous rise of prosperity across the globe, unlike anything seen before in the history of mankind. Understandably, markets have increasingly played a more important role in our lives.
In the ‘80s, Reagan and Thatcher held the belief that not the government, but markets were the key to prosperity and freedom. In the ‘90s, Clinton and Blair continued the laissez-faire policy believing that the power of the market is essential for achieving the public good.
The merits of markets have not been unknown to thinkers such as Montesquieu (doux-commerce thesis), John Stuart Mill, and Adam Smith. An important insight of Adam Smith that marked the last century was that individually rational actors can unintentionally lead to a greater benefit for all.
‘Commerce and manufactures gradually introduced order and good government, and with them, the liberty and security of individuals, among the inhabitants of the country, who had before lived almost in a continual state of war with their neighbours and of servile dependency upon their superiors. This, though it has been the least observed, is by far the most important of all their effects.’
The recent credit-crisis of 2008 tempered the confidence in free-market thinking of the earlier decades. Alan Greenspan, a former Federal Reserve chairman, said to be in a state of shocked disbelief when he found out his assumption of a self-correcting market that worked
‘exceptionally well over the last 40 years’, turned out to be wrong. The cover of The Economist showed a melting economics textbook with the title ‘What went wrong with economics, and how the disciple should change to avoid the mistakes of the past’.1
Despite these doubts on the assumptions of contemporary economics, markets continued to extend their reach in, it seems, almost every sphere of our lives. It is becoming increasingly difficult to find something that is not for sale. This can be illustrated by the following examples of remarkable things which are for sale:
• A complete thesis for an academic Master’s: $742 for 40 pages.2
Several websites offer professional writing services ‘for those unable to make time for the academic writing bit’. • Students of the University of Michigan receive $100 for a presentable dorm room.3
Students who participate in this program must keep their dorm rooms presentable with the doors open, let campus tour groups see their room in the middle of the day and have to be out of bed and dressed.
• Second graders in Dallas receive 2$ per read book.4
Schools in Dallas try to stimulate
reading by paying children $2 for every book they read.
• Alibi services to help create double lives: $12 per text message up to $1000, depending
on the amount of work. A German company struggles to keep up with the demand of their
service to provide a perfect alibi for adulterous absence.5 • Rent a friend: $10-$30 per hour.6
The website advertises with: ‘You can rent a local
friend to hang out with, go to a movie or restaurant with, or someone to go with you to a party or event’
• The right to pollute the environment with CO2: €5,75 per tonne.7 The European Union
has set up a market where companies can buy and sell the right to emit CO2 into the
atmosphere.
• Service of an Indian surrogate mother to carry a pregnancy: $7,500.8
Western couples,
typically those unable to have a baby, increasingly outsource the pregnancy to Indian surrogate mothers who give up the baby at birth for a fee.
• Selling your kidney: $15,000(?) per kidney.9
Proponents of introducing a market argue
that both liberty and social welfare incline us in the direction of legalizing the sale of organs. Exploitative aspects of the black market would disappear and the supply of kidneys would increase, they argue.
1.2 Motivation and research question
Increasingly, goods have been put up for sale over the last decades. Allowing markets to distribute almost every good seems attractive, because a market does not judge the preferences that are satisfied with an exchange. A market does not make an ethical distinction between the sale of a banana and the sale of a kidney. The market does not pose questions whether some ways to value goods are better or worse than others. As long as the seller and buyer are free in their choice, the economist only has to address the question of what the price will be and the
market will solve the rest. (Nobel prize winner Becker and Elias estimate that a kidney transplantation would be available by paying about $15,000 for each kidney.) This neutral, value-free attitude towards markets, where two parties can decide for themselves what value to place on different goods and whether or not to engage in an exchange seems tempting.
In contemporary economics, it is often implicitly assumed that markets are neutral homogeneous institutions, and do not interfere in the way we value the goods which are exchanged (Satz, 2010). A market is seen simply as an organization tool to distribute goods and maximize utility effectively. It should not matter if a good is acquired with a market or in some other way, since the preference for a good is assumed to be fixed for every individual. While this is often the case with material items like a banana or a laptop, this may not hold in the domain where social norms or moral values play a role.
Considering the assumption that markets do not interfere in the way we value goods, it is tempting for economists and politicians to extend market logic to more domains of life. Some have traditionally been governed by nonmarket norms, like some domains in education, health-care, criminal punishment and environmental protection. Policy makers use market structures to solve public problems such as pollution. For example the website of the European Commission reads:
‘The EU Emissions Trading System has become the EU's key tool for reducing greenhouse gas emissions from industry most cost-effectively.’10
In the education sector, children are stimulated to read a book by paying them (see the
introduction). There only seems to be a possible upside to this approach, but no downside. If it does not work as expected, then we will simply stop paying the children. So why not try to pay children and see if it works?
Sandel (2012) believes that markets are not inert, but can occasionally leave their mark and have lasting effects. Sometimes, market values crowd-out nonmarket values that are worth caring about. If creating a market for a good does not have the desired consequences and the market is terminated, we might be worse off than before, because the way we value the exchanged goods could have been degraded by market norms. For example paying children to read books might
corrupt the joy of reading for its own sake, and children might have come to view reading simply as a way to make money.
If this is correct, creating a market where buying and selling emission can be bought could alter our valuation of the underlying problem: protecting the environment. Putting a price on reading a book could erode the joy of reading a book. In a recent study, Falk and Szech (2013) found empirical evidence that market interaction can change how individuals value negative
externalities to third parties. But it is unclear whether the change in valuation only occurs in a situation with market interaction, or whether the change is lasting.
If we permit certain goods such as pollution rights and kidneys to be sold in the marketplace, we (implicitly) approve to treat it like a commodity, as an instrument for profit. But for some goods this might not be the proper way to value them if the meaning changes. When a policy such as the Emission Trading System turns out not to be cost-effectively, returning to the pre-market situation could be problematic: moral values might have disappeared and could be hard to revive if the moral sense to treat the environment well is be replaced by thinking of polluting like a monetary cost. What starts as a mechanism then becomes the norm. In Australia, the carbon policy (a carbon tax) did not work out as expected and is abolished from 1 July 2014.11 But even if the policy turns out to be cost-effectively, policy makers should think carefully about where markets belong and where they do not if we wish to preserve a moral sense.
Considering the aforementioned, questions arise whether the market interaction can erode moral values. The research question of this thesis is: To what extent can the introduction of market
interaction irreversibly erode moral values?
1.3 Structure outline
This thesis consists of two sections: First, an overview of the literature is given in Chapter 2. Second, the report of a laboratory experiment is given in Chapter 3.
In paragraph 2.1, an important assumption of standard economic theory is described first. According to this theory, markets are neutral mechanisms, and do not interfere in the way goods are valued. This assumption is questioned subsequently in paragraph 2.2. Possibly, the type of market could affect the way goods are perceived. It is examined whether a good that is offered
purely on a commercial basis rather than other terms such as altruistic terms might be perceived differently. A theory for these possible differences is discussed where a distinction is made between different types of markets: social markets and monetary markets.
Furthermore, in paragraph 2.3, the crowding-theory is used to provide a possible explanation for the examples where markets seem to affect perception of goods or activities. Psychologists have long made a distinction between intrinsic and extrinsic motivation, where the former can be crowded-out by the latter. More recently, this theory has drawn attention in the field of behavioral economics. The possibility that market norms crowd-out other social norms is
examined. Two different economic approaches to the crowding-out effect is outlined. Finally, an overview of the empirical evidence on the crowding-out effect is discussed.
One way in which it becomes visible that market relationships increasingly govern human interaction, is the increasing use of monetary incentives over the last decades to solve social problems. The implicit assumption is made that only the benefits and costs change, but not our attitudes. In paragraph 2.4 the seemingly unconstrained use of monetary incentives is discussed.
A reason why market-structures are appealing for policy-makers is that markets tend to promote efficiency. In paragraph 2.5, it is studied how efficiency has come to play an important role in contemporary economics by looking at theories of early economists of two centuries ago. Also, it is discussed whether efficiency is still always a good metric that should be used use to increase utility.
In a recent study of Falk & Szech (2013), evidence was found that market interaction could have an impact on the way individuals value negative externalities. This contradicts the assumption in traditional economics holding that individuals have fixed preferences, and the market-structure is only a means of allocating goods efficiently. The authors give three different reasons why market interaction could have effects on the way negative externalities are valued which are discussed in paragraph 2.6.
The second part of this thesis consists of a laboratory experiment. This is an extension to the experiment of Falk and Szech (2013). In the experiment of this thesis, subjects make a decision between earning money or saving the life of a chicken. It is studied whether markets-interaction can leave its mark or not.
Finally, in chapter 4, a conclusion is drawn from both the literature and the experimental part.
2. Literature
2.1 The neutrality of markets
One of the praised virtues of a market is the property that it tends to increase efficiency. When parties voluntarily agree on an exchange and both are better off without making anybody worse off, the goods are more efficiently allocated (Mankiw 2012).
According to Mankiw, a more efficient allocation of goods increases the total utility. Increasing the total utility of consumers has become a main focus in contemporary economics. Mankiw argues that the goal of the policymaker is to maximize the utility of all individuals in a society.
The economic argument proceeds independently of the goods being exchanged. It does not matter whether bibles, guns, bananas or kidneys are exchanged on a market. No moral value is attached to the exchanged goods, nor is the quality of the good relevant: it all looks the same in the equation of an economist (Satz 2010). As Robbins noted in 1932, economics deals with elements of scarcity, means, and ends, and the means and ends can be filled in any possible content.
This line of thought in contemporary economics leans on the assumption that markets are a neutral mechanism of exchange. Economists often assume that markets do not affect the goods which are being exchanged (Sandel 2012). Markets do not alter the way in which goods or activities are valued. A market is viewed as a tool to allocate goods and maximize utility effectively. When goods that were previously untradeable have become tradable, no damage is done. In addition, the individuals willing to sell and buy the goods are now able to, and thereby both parties increase their utility. Those who are not are free to refrain from trading.
If the assumption is correct that money and market interaction does not affect the goods that are traded, then the extending reach of markets in our lives is something to encourage: it does not matter if we trade bananas or human organs. The sum of the preferences would become greater.
But if market interaction itself influences our view of certain goods, the justification of market reasoning to maximally satisfy our preferences is circular.Satz (2010) notes that: ‘Market outcomes cannot be ranked unambiguously by preference rankings if the preference rankings themselves depend on markets’.
2.2 The questionability of the neutrality of markets
In contrast with the prevalent assumption that markets are neutral, some economists and
philosophers considered that our perception of a good can be subject to change when this good is provided through a market where money is involved.
Studies by Titmuss (1970) and Gneezy and Rustichini (2000) which are described below, even exemplify that certain goods degrade when treated as a commodity.
In order to find an explanation for the findings that contradict standard economic theory, Ariely and Heyman (2004) suggest to differentiate between ‘monetary markets’ and ‘social markets’ and that different sets of laws apply in these different types of markets as explained below.
2.2.1 Commercialization-effect: change in the perception of goods?
British economist Hirsch (1976) argued that the field of economics mistakenly neglects what he calls the commercialization-effect. He describes it as ‘the effect on the characteristics of a product or activity of supplying it exclusively or predominantly on commercial terms rather than on some other basis—such as informal exchange, mutual obligation, altruism or love, or feelings of service or obligation’. Furthermore, the ‘common assumption, almost always hidden, is that the commercialization process does not affect the product.’ In a time of ‘economic imperialism’ where the reach of markets is extending into more aspects of life, this seemingly unimportant assumption could have large consequences.
Furthermore, philosopher Walzer (1983) shares a similar view. Walzer believes that, when we think of how goods should be distributed, we should also keep in mind whether this is consistent with the meaning of the good. Concepts like honor, divine grace, and true love have no market price. Using a market to distribute these goods would lead to a different perception of the goods.
Taking the aforementioned line of thought into consideration, the website that offers friendship for sale (from the introduction) could be analyzed. Introducing a market to buy a friend does not show a proper understanding of the value of friendship, and it would change and degrade the meaning of it. One could take a Kantian perspective and think that would never happen; for some things people have dignity and not a price. But the area might be more grey than it may look at first sight, and markets may enter our private lives in more subtler ways, sometimes without even
realizing it. A charming wedding speech from a friend would be valued differently if it turns out that the speech had been completely bought from a ghostwriter. A pre-written condolence card or a wish card is valued differently when the same message would have been written by the person themselves. Yet these last two examples are becoming more common practice. The same goods now can be bought, but this meaning has changed.
Hence the idea that the value of a good can be different when it’s provided via a market or in some other way is not new. Nevertheless, in contemporary economics this possibility has often been ignored.
2.2.2 Degradation of goods due to commercialization?
The idea that some goods degrade when treated as a commodity for sale can be illustrated by the following classical study.
Titmuss’ (1970) thought about what would happen if voluntary blood donation would be commercialized. Titmuss compared the system of collecting blood in the US and the UK. As is the case in the Netherlands, in the UK all blood donors give their blood voluntarily: they give without receiving a monetary compensation. In contrast, in the US part of the blood is collected via commercial blood banks from people who are willing to sell their blood to earn money. Despite the monetary incentive in the US, Titmuss showed that in the US the shortage of blood was greater than in the UK. Titmuss attributed the lower level of blood donation in the US to the rise of commercial blood banks. He argued that creating a market for blood-donors by starting to pay volunteers for their blood “erodes the sense of community” and might decrease the number of blood donors. Titmuss hinted that once blood is viewed as a commodity, the feelings of moral responsibility to donate would decrease. Furthermore Titmuss thought that ‘It is likely that a decline in the spirit of altruism in one sphere of human activities will be accompanied by similar changes in attitudes, motives and relationships in other spheres’. Titmuss thus believed that not only the level blood supply would decrease as a result of commercializing blood, but the feelings of altruism might also decrease in other activities.
When Titmuss published his findings that paying volunteers to give blood could actually lead to a decrease in the number of donors instead of an increase, economists replied with skepticism. This makes sense if it is assumed that markets do not change anything about donating blood.
Economists Arrow (1972) wrote: ‘Why should it be that the creation of a market for blood would decrease the altruism embodied in giving blood?’ Paying volunteers to donate blood would only increase the range of their possibilities. If they derive satisfaction from donating, they still can and in addition earn some money.In other words Arrow concludes that the blood itself remains the same, with the same useful properties regardless whether it is donated or sold. While this is true, Arrow misses the important point that the altruistic motivation to give blood voluntarily could be repressed if blood becomes a commodity to be bought and sold.
A reason for Arrow’s skepticism might be that Titmuss’ idea was that empirical data such as the following study was not yet available.
In a field study conducted by Gneezy and Rustichini (2000), a fine was introduced on a group of day-care when parents arrived late to pick-up their children. The deterrence hypothesis predicts that imposing a fine on late pick-ups, everything else unchanged, will reduce the occurrence of this behavior. However, the introduction of the fine increased the number of late-coming parents significantly. In addition, after the fine was removed, late-coming behavior still remained at the higher level for at least three weeks. There are multiple explanations for this finding, which I will cover more elaborately in paragraph 2.4.3. One explanation is similar like in the blood market of Titmuss. The moral obligation or social norm not to be late is replaced by market norms: to pay for a service to watch over their children a little longer. It is unknown whether the higher level of late pick-ups remained permanently higher or eventually returned to the lower, original level before introduction of the fine, since data was only available from three weeks after removing the fine.
2.2.3 Theory for the commercialization-effect: monetary market and social market As paragraph 2.2.2 shows, there seems to be evidence that there is a difference in the attitudes towards goods when they are either provided solely on commercial terms or when they are provided on other terms.
Ariely and Heyman (2004) theorized this idea when they found that people sometimes exert more effort in exchange for no payment than when they receive a small remuneration, especially when it is considered a good deed. This behavior does not correspond with classical economic
theory which predicts that the effort is higher when people are offered money than when they are offered no money.
In order to explain these outcomes, Ariely and Heyman make a useful distinction between the existence of two kinds of markets: a ‘social market’ where no money is involved and the ‘monetary market’. They believe that paying money can have influence on the way tasks are framed.
When no money was offered, or when payments were given in the form of candy, effort seemed to stem from altruistic motives and largely insensitive to compensation levels. The insensitivity to compensation levels is characteristic for social markets.
In a monetary market other norms could apply. When payments were given in the form of cash, effort seemed to stem from reciprocal motives. Contrary to the ‘no money’ situation, the exerted effort was sensitive to the size of the compensation. The traditional economic principle of the price effect will generally apply: when compensation rises, the effort will increase. Offering money can be a cue to individuals to understand the situation as a monetary market. Merely mentioning monetary circumstances could transform fragile social rewards to non-social extrinsic rewards.
In this study, the altruistic motives in the social market elicited more effort than reciprocal motives in a monetary market. Ariely also found something similar in a personal experience. When some lawyers were asked to help retirees for 30$, most of them refused. But when they were asked to help them for free (or for a gift), they agreed. The first time (monetary) market norms applied, and the second time social norms.
This theory can be applied to the examples such as the blood market and at the day-care. In countries with voluntary blood donation there seems to be a social market, where altruistic feelings motivate individuals to donate. In contrast, in the USA where blood is commercialized, monetary motives play a role. Before the introduction of the fine in the day-care example, the act of being on time was governed by social market norms. But the fine provided a cue that a
monetary market was the one people were dealing with, and market norms applied.
2.2.4 Conclusion
As the aforementioned examples showed, it is hard to hold on to the traditional assumption of economic theory that the way a market is structured never affects a good or activity. According to that assumption, whether a good is commercialized in a market or not does not change the attitudes towards the good or activity. A market then only is an allocation tool to increase efficiency and utility. But as described in this paragraph, this does not always hold, especially when individuals consider the good or activity a good deed or social norms apply. Money can matter in those situations.
Ariely and Heyman (2004) theorize that a distinction can be made between social markets and monetary markets. In these markets, different norms apply. The type of market influences the sensitivity to reward and motivation. In the social markets, social norms apply. And in monetary markets, other norms apply and effort is sensitive to compensation levels.
The distinction of the two-markets suggests, like Walzer argued, that we should keep in mind the meaning of the good when we think of how to distribute it. The level and type of compensation should be dependent on the type of the market the good is distributed in.
2.3 Explaining the commercialization-effect: crowding-out
Studies conducted by psychologists and more recently also behavioral economists provide a possible explanation for the commercialization-effect that was visible in the aforementioned examples of blood donation and the introduction of a fine at a day-care for late pickups.
In these studies, a distinction between intrinsic motivation and extrinsic motivation is made. Intrinsic motivation refers to behavior that is driven by internal rewards, such as the joy of performing the task itself. Extrinsic motivation refers to behavior that is driven in order to obtain an outcome. Extrinsic motivation is driven by external factors, such as money. Under
circumstances, an extrinsic motivation can ‘crowd-out’ the intrinsic motivation. In this case, offering money can lead to a decrease in motivation, which is an opposite effect to the standard price-effect.
Similarly, the norms in a monetary market may crowd-out the norms in the social market. This is what Titmuss also argued but in other words, as this theory was not yet available:
‘Commercialization and profit in blood has been driving out the voluntary donor.’ Crowding-out theory may provide an explanation why the standard price effect does not always hold.
Increasing the monetary reward to give blood may result in fewer donors, not more.
As Sandel puts it: ‘So to explain the world, economists have to figure out whether putting a price on an activity will crowd-out nonmarket norms. To do so, they have to investigate the moral understandings that inform a given practice and determine whether marketizing the practice (by providing a financial incentive or disincentive) will displace them.’
2.3.1 What is the crowding-out theory?
Only a little over a decade ago, economists started to notice that the theory of extrinsic
motivation was not able to tell the whole story. As the examples in paragraph 2.1 illustrate, an increase of a monetary incentive could lead to a decrease in motivation which seemed puzzling. Standard economic theory predicts that an extrinsic motivation, like offering a reward will act as a positive stimulus on behavior (See for example: Holmström & Milgrom (1991); Lawler,
(1971); Prendergast (1999)). But standard economic theory misses the point that money can have corrupting effects on motivation.
Frey (1997) was the first economist who provided a possible explanation for such findings by introducing the ‘crowding-out’ effect into the field of economics. Frey argued that external stimuli, for example positive monetary rewards or a fine can influence the intrinsic motivation. These external stimuli can either crowd-out or crowd-in intrinsic motivation (or leave the
intrinsic motivation unaffected). In particular circumstances, a positive monetary reward can lead to a decrease of performance of the contemplated behavior. Then, the extrinsic motivation
crowds-out the intrinsic motivation.
Frey (2000), who coined the term ‘crowding-out effect’, believes it is ‘one of the most important anomalies in economics, as it suggests the opposite of the most fundamental economic „law“, that raising monetary incentives increases supply.’ This is in contrast with the traditional view that individuals increase their effort most when the remuneration structure is aligned with performance, see for example Foss (2003). If enough evidence supports this claim, it will be necessary to use not only monetary rewards as a tool to stimulate behavior.
Economists were open to the idea, but in order to be convinced, economists wanted to see empirical evidence. Gribbons (1998) mentioned that ‘a more troubling possibility is that
management practices based on economic models may dampen (or even destroy) non-economic realities such as intrinsic motivation and social relations. Field experiments on this issue would be especially useful’. Prendergast (1999) noted that however the ‘idea holds some intuitive appeal, it should be noted that there is little conclusive empirical evidence (particularly in workplace settings) of these influences’. Since then, economists made advancements with numerous field experiments to determine the importance of the ‘crowding-out’ effect in the field of economics. In paragraph 2.3.4 an overview of the empirical evidence that has since
accumulated is given.
The idea of the crowding-out effect was not new and already known in the field of psychology. A number of psychologists found in the laboratory that the performance based rewards can lead to decreasing effort when the rewards are offered for activities people find intrinsically
worthwhile (Deci, Koestner and Ryan 1999). Names such as ‘the hidden cost of reward’ (Lepper and Greene, 1978) or ‘the corruption effect’ (Deci, 1975) have been coined to describe this effect. However, the two disciplines of economics and psychology appear to have been
developing separately and economists did not pay attention to these findings until Frey named it
the ‘crowding-out’ effect. Apparently, the research in the field of psychology was not strong enough to convince economists that this could be relevant to use in economic models. Standard ‘economic approaches to human behavior’ (Becker, 1976) or ‘economic imperialism’ (Stigler, 1984) are largely based on extrinsic incentives. For example in the influential Shapiro-Stiglitz (1984) model, a higher wage is paid to employees to increase the marginal cost of shirking. The model predicts that a higher wage will induce the worker to exert effort and prevent them from shirking. The extrinsic motivation of a higher wage is captured in this model, but the intrinsic motivation is not taken into account.
2.3.2 Economic approaches to the crowding-out effect
There are two different ways how the crowding-out effect is integrated in economic theory which are described below.
To see how the crowding-out effect is integrated in economic theory, Frey and Jegen (2000) argue that it is useful to think of a purely intrinsically motivated individual on the one hand and a purely extrinsically motivated individual on the other hand as polar cases. Between those
extremes a whole range of combinations of intrinsic and extrinsic motivation is possible. The change along the range, towards a more intrinsic or more extrinsic motivation have been explained in two ways: a change in the preferences or a change in the perceived nature of the performed task.
1. Changes in preferences.
According to his theory, the change in preference of the agent is the cause of the change in behavior. Frey (1997) theorized from observations that a change in behavior of an agent may reveal movements in the amount of intrinsic motivation due to an external stimulus. An advantage of this approach is that hypotheses can be empirically tested in a broad area where intrinsic motivation allegedly plays a role.
2. Changes in the perception of the performed task.
This approach, where the perception of the task changes, is in line with the assumption of constant preferences in contemporary economics. A change in intrinsic motivation is not caused by changing preferences, but by a changing perception of the nature of a task.
According to this theory, the perception of the task changes and that can lead to different behavior. Bénabou and Tirole (2000) have modeled the effect of extrinsic rewards on intrinsic motivation. In this model, the reward exerts influence on the intrinsic motivation by serving as a signal to the individual containing information about the attractiveness of the task and his self-confidence. A higher reward is associated with less attractive tasks, which in turn reduces the intrinsic motivation.
In a similar approach where the perception changes, Akerlof and Dickens (1982) criticize the view of Tulluck that increasing the cost of committing a crime should decrease the level of crime by using cognitive dissonance theory. Akerlof and Dickens argue that the intrinsic motivation (self-motivation) to obey the law is a key factor in decreasing crime rates. When the penalty of violating the law increases, the level of crime may not fall, since the intrinsic motivation to obey the law will decrease. A weakness of this model is that it does not deal with the crowding-out effect in the case of monetary rewards.
The key difference of both approaches to integrate the crowding-out effect into economic theory is whether the standard assumption of fixed preferences is maintained. The change in perception of the task seems in line with the approach of Ariely and Heyman of two different types of markets. The task is perceived differently in a monetary market than in a social market, which could be the cause for different observed behavior. In the case of the blood market, the altruistic feelings to donate could be crowded-out by market norms.
2.3.3 Net effect of incentives and crowding-out
A monetary stimulus could influence behavior of an individual in various ways.
On the one hand, offering a monetary reward stimulates increased performance of that behavior in an individual. On the other hand is the effect of offering extrinsic rewards on intrinsic
motivation. If the extrinsic reward crowds-out the intrinsic motivation, the performance of the behavior in the individual will decrease.
If the crowding-out effect is stronger than the price effect, the net effect will be that the extrinsic reward reduces the desired behavior instead of increasing it.
Another possibility is that the extrinsic reward crowds-in the intrinsic motivation. Then the two factors work in the same direction which leads to an increase in the behavior.
Bénabou and Tirole (2000) and Chang and Lai (1999) analyzed the effects formally which Frey (2000) simplified, see Figure 1.
Figure 1. The crowding-out effect.
At M0, before the introduction of a monetary reward, the supply curve of the performed task S0 is
shown in red. When a monetary reward of M1 is introduced, an increase of the behavior from A
to B is expected along the supply curve S0 as a result of this incentive. However, if the extrinsic
reward crowds out the intrinsic motivation, the supply curve will shift to S1. In this case the
crowding-out effect is larger than the initial effect, and results in a decrease the desired behavior from A to C. The often made assumption in economics of ceteris-paribus is not useful here because the monetary reward has a crowding-out effect on the supply curve.
I suspect the finding of Gneezy and Rustichini illustrate the crowding-out effect of Figure 1. In the paper called ‘Pay enough or don’t pay at all’, Gneezy and Rustichini (2000) investigated in a field experiment the impact of monetary incentives on behavior of children who collect
money voluntarily for the public good. Each of the 3 groups received a different treatment. The first were offered no money for collection, the second received 1% of the total collection and the third received 10% of the total revenue as a monetary reward. The first and the third group did not collect a significantly different amount. But the second group obtained a significantly lower amount. According to standard economics this is unexpected, because this group would receive 1% instead of 0% in group 1.
At the introduction of a small performance based bonus, the behavior is expected to increase. However, the supply curve shifts to the left as a result of the crowding out effect and the behavior actually decreases. Only if the reward is large enough, the effect of the monetary reward will outweigh the crowding out-effect. In this experiment, paying a 10% bonus balances the crowding-out effect and the price effect. There is no improvement in the performance, but there is a loss of welfare because the 10% commission has to be paid.
But what happens when the unsuccessful 10% commission is removed again? Will the collected amount be the same as in the voluntary group as before? Or have the motives (permanently) been eroded by the introduction of the commission and the collecting for the public good is now viewed differently than before? Once the intrinsic motivation has been crowded out, can it be (quickly) restored? Do we return to the original state or is the curve permanently affected? In other words: Once a monetary market, always in a monetary market? If this erosion is lasting or maybe even permanent after removal of a unproductive monetary incentive scheme, policy makers should think more carefully about simply trying a monetary incentive and see if it works the way they desire.
2.3.4 Empirical evidence of crowding-out
Under some circumstances, the standard economic model of the price effect predicts well, and in other circumstances the crowding theory seems to be better. In this paragraph an overview of the growing amount of empirical evidence for the crowding-out effect is given.
From a meta-analysis of 46 economic studies Rost and Weibel (2007) conclude that the standard economic model predicts behavior correctly, on the condition that external rewards are large enough to compensate the effect of crowding-out. If individuals are already predominantly motivated by extrinsic motivation, a reward increase leads to an increase in performance. But
when the performed task is predominantly intrinsically motivated, a reward increase reduces the performance, like predicted by crowding theory.
An example that crowding theory could have predicted better is found in the study of Frey and Oberholzer (1997). They found that individuals were less willing to accept a nuclear waste facility to be built near their village when they were being offered a monetary compensation. They believe this extrinsic reward crowds-out the motivation to behave altruistically or to perform their civic duty.
Despite the growing amount of literature on the crowding-out effect, the original thesis of Titmuss had never been tested directly. Mellström and Johannesson (2008) sought to find out whether Titmuss was right using empirical data of a field experiment. Subjects in the first treatment group were given the opportunity to become a blood donor voluntarily. The second group was offered 7$ if they became a blood donor and the third group could choose between receiving the 7$ for themselves and donating the 7$ to charity. Their results showed no statistical difference between the men in different groups, but for the women they found a large effect. When the monetary incentive of 7$ was introduced, the supply of blood donors in women nearly halved. However, offering the subjects to donate their payment to charity fully counteracted the reduction by half.
Similar results in Gneezy and Rustichini’s study ‘Pay enough or don’t pay at all’ mentioned before is found by Frey and Goette (1999) where the incidence of rewards reduces volunteering. It does not seem that people always pursue their own ‘self-interest unconstrained by morality’ (Milgrom and Roberts 1992).
However, in contrast with the finding of Gneezy and Rustichini, other studies of Leat (1990) and (1987) found that volunteers undertaking caring activities (such as care for the elderly, foster parenting) did work harder when the payment was increased. A difference here was that, although the volunteers were at least partly motivated by the intrinsic motivation (according to the interviews, they did not demand or expect extra pay for extra work), the caring activity of the ‘volunteers’ was already stimulated with the presence of payments. So at least partly, the caring activities already took place in the ‘monetary market’. This is in line with Ariely and Heyman’s finding that a ‘mixed market’ (social and monetary) is perceived as a monetary market.
Another example where the crowding-out effect may not predict well is when awards and prizes are offered. Frey and Neckermann (2006) found that in these cases the crowding-in effect could occur. These type of rewards might even increase the intrinsic motivation, for example social recognition. Also, Frey and Osterloh (2002) argue it is possible that the intrinsic motivation can be strengthened because the task is seen as highly challenging. Then the extrinsic motivation is crowded-in by intrinsic motivation.
The evidence for the crowding-out effect is mixed. It depends on the situation what role the crowding-out effect plays. In ‘Theory of Public Service Motivation’ Le Grand notes on the mixed evidence:
‘The evidence concerning the relationship between financial rewards and the supply of public services suggests that there may be reward thresholds above and below which behaviour is rather different. Below the lower threshold, financial rewards may be viewed as reinforcing (...) supply, since they signify social approval of the sacrifice the individual is making in pursuing his or her activities. Extra payments above the threshold, however, erode the magnitude of the sacrifice that he or she is making, and thereby partly erode the motivation for the act. However, as payments increase further, another threshold is reached (...) and supply increases again’
What is problematic in this argument is the notion that individuals are motivated to make a ‘sacrifice’. The greater the magnitude of the sacrifice, the greater the motive seems illogical. In addition, no satisfying explanation is given why small payments reinforce sacrifices, and large rewards erode it.
2.3.5 Conclusion
The crowding-out effect provides a possible explanation for the commercialization-effect. The examples mentioned above confirm the idea of Hirsch that commercialization could affect our attitudes towards a good or activity. Proving goods solely on commercial basis by market
mechanisms can crowd-out nonmarket values. In some circumstances, this crowding-out effect is stronger than the price effect.
It seems that the crowding effect is most strong when a ‘social market’ is converted to a
‘monetary market’, and the social market was previously regulated by moral values such as the altruistic motivation to donate blood.
2.4 The increased application of monetary incentives in today’s world
Paragraph 2.2 argued that the assumption that markets are neutral, and do not change the way how goods are valued is questionable. Despite the notion that the valuation of a good can change and be degraded when it is commercialized, a trend that more goods are being put up for sale has become visible. This is illustrated by the examples mentioned in the introduction, like creating a market to trade kidneys, pollution rights, and to commercialize blood donation.
One way in which this transformation to monetary markets becomes visible is the increasing use of monetary incentives to solve social problems or to stimulate useful behavior. For example by paying children to read more books, paying teachers to enhance the results of students, paying people to stop smoking and paying people to fitness more often.
2.4.1 Why monetary incentives?
A central tenet of economic theory is that individuals mainly respond to monetary incentives. A monetary incentive is simply a reward or penalty to encourage or discourage individuals to perform an action. The former World Bank economist William Easterly is clear about the importance of monetary incentives.
‘What is the basic principle of economics? As a wise elder once told me, ‘People do what they get paid to do; what they don't get paid to do, they don't do.' People respond to incentives; all the rest is commentary.’
2.4.2 Increased use of monetary incentives
The popularity of incentives has been growing rapidly over the last decades. Until around 1990, the word ‘incentive’ had not been used often in books. But from 1990 to 2008, the frequency of the use of the word ‘incentivize’ in books has increased over 1500%.12
However the emergence of incentives is relatively new, Levitt and Dubner, authors of popular economics book ‘Freakonomics’ go as far to state that ‘economics is, at root, the study of incentives’. According to them, incentives form the ‘cornerstone of modern life’. They believe that ‘economists love incentives, and the typical economist believes the world has not yet
invented a problem that he can fix if given a free hand to design the proper incentive scheme.’ In contrast with the invisible hand of Adam Smith, incentives are more like a visible hand. ‘Most
incentives don’t come about organically. Someone—an economist or a politician or a parent— has to invent them.’
The development that monetary incentives are important in modern life can be shown by the observation that politicians have aimed to invent and use incentives to solve social problems. President Barack Obama wants to ‘poke, prod, incentivize’13 banks to provide loans and help home-owners who have problems paying their mortgage. Also in health-care, incentive programs are designed improve the care.14 According to the National Business Group of Health, about 68% of the employers in the US use incentives like penalty or a discount of several hundreds of dollars to quit smoking.15 Moreover, David Cameron said in his speech at the World Economic Forum in 2011 that ‘We need to do more to incentivise the same kind of risk-taking investment culture over here.’16
Despite the growing use of monetary incentives into more aspects of social life over the last decades, Levitt and Dubner hold on to the statement that morality and ethics do not belong in economics. Economics ‘simply doesn’t traffic in morality’. There is even a branch of economists who call their approach value-free, also called ‘positive economics’. Like Levitt and Dubner state: ‘Morality, it could be argued, represents the way that people would like the world to work - whereas economics represents how it actually does work. Economics is above all a science of measurement.’ Becker (1970) thinks that all human behavior can be explained by assuming that we make a cost and benefit analysis. Or as Tullock (1974) puts it: ‘Most economists who give serious thought to the problem of crime immediately come to the conclusion that punishment will indeed deter crime. The reason is perfectly simple. If you increase the cost of something, less will be consumed. Thus, if you increase the cost of committing a crime, there will be fewer crimes’.
For some choices we make, an explicit price is not available which Becker called ‘shadow prices’. For example, no prices are visible when somebody decides not to commit a crime. According to Levitt and Dubner, when an individual decides not to commit a crime, an
individual calculates the implicit price - the economic, social and moral price – and concludes that the benefits are not worth the costs.
Most incentive schemes today go further, and reflect the suggestion that all human behavior can be explained as market relations. The implicit price is converted to an explicit price. As Sandel remarked: ‘By putting an actual, explicit price on activities far removed from material pursuits [like paying children to read books], they [economists/policy makers] take Becker’s shadow prices out of the shadows and make them real.’
2.4.3 The questionability of the application of monetary incentives
Similar like a mechanic optimally tweaking a car, the economist would like to study or change behavior by tweaking incentives according to the view of Levitt and Dubner. If the (implicit) assumption that incentives do not change individuals’ preferences is correct, than this makes sense. In addition, the assumption is very useful to build mathematical models (see further paragraph 2.5.1).
However, a weakness seems to be that there is no room for the possibility that incentives themselves can change the meaning of some goods.
Levitt and Dubner give two reasons for the result found in the aforementioned day-care study. First, the fine of 3$ was ‘simply too low’. The first argument is that parents simply bought off their guilt. But this argument is flawed which can be shown by a thought experiment of Elster (1999). Imagine a pill is available for 1$ which removes all the feelings of guilt you would otherwise experience from coming late. If the feeling of guilt is just a mental cost, to take the pill and undertake the action would be logical. Yet most people would not take the pill, as it does not change the morality of coming late.
Their second argument, in line with the argument of Gneezy and Rustchini, was that the small 3$ dollar fine sent a signal about the cost of coming late. Before the fine, the parents were
uninformed about the exact costs, but now they know. But what would happen if parents observe other day-care centers introduce a fine of 3$ but not at their own? They now also receive the signal of 3$. Following their argument, the level of late pick-ups should increase in those parents, but that is open to doubt. Possibly, something else occurred at the day-care center. The nonmarket norms of late-pickups could be replaced by market norms by the introduction of an explicit price on coming late. Maybe, the fine has become perceived as a fee. A fine implies moral disapproval where a fee implies a cost.
Another weakness of incentives is that possible side effects are not always visible. Incentivizing specific behavior could lead to unexpected and unwanted consequences. For example in
hospitals in the UK, incentive structures were designed to decrease the waiting time of patients in the accident and emergency department. As a result, in some hospitals ambulance personnel who carry the patients were instructed to wait outside a little longer to lower the measured waiting time. Other hospitals simply relabeled ‘waiting trolleys’ to ‘bed with wheels’ to reduce the measured waiting time. What is now called Goodharts ‘law’ states that when measuring becomes a target, it ceases to be a good measure. Or in his original formulation ‘Any observed statistical regularity will tend to collapse once pressure is placed upon it for control purposes’.
2.4.4 Conclusion
The use of monetary incentives to solve social problems is growing. Policymakers and economists believe that people respond to monetary incentives. With the use of the right monetary incentives, behavior can be encouraged or discouraged. The implicit assumption is made that incentives do not change the way a good or task is perceived. Putting an explicit price on almost every activity suggests that all human behavior can be explained by simple market relations. The notion that incentives can crowd-out nonmarket values is neglected. And in these situations, incentives can have other consequences than what is expected according to standard economic theory.
2.5 Are efficient markets always better?
One of the praised virtues of a market is the tendency to increase efficiency. In this paragraph a description is given why increasing efficiency plays an important role in economics. As it is argued, efficiency with the use of money or market mechanisms is not always better if the commercialization-effect is neglected.
2.5.1 History of efficiency
How economists came to ‘dream of beautifully efficient exchange’ as Levitt and Dubner noted can be traced back to the works of marginalists such as Jevons, Menger, Walras and Pareto. Their models can describe the distribution and price in a fixed point in time given initial distributions and preferences. But these ideas lean on the assumption that market exchanges do not interfere with the way goods are valued.
According to Jevons, (1871) ‘the problem of economics may be stated thus: Given a certain population, with various goods and other sources of materials: required, the mode of employing their labour which will maximize the utility of the produce.’ Menger and Walras’ idea of general equilibrium also focus on the problem of optimal allocation given certain distribution of
resources. This approach enabled economists to create powerful mathematical models to explain the determination of prices, and for example a Pareto efficient distribution of goods under perfect competition. In efficient markets with perfect competition, supply and demand continuously influence prices. At some equilibrium price, the market can be ‘cleared’ and there is no excess demand or supply. Pareto mathematically formalized the relationship between markets and efficiency. A state of allocation is called Pareto efficient if and only if the preference satisfaction of no individual can be improved without making somebody else worse off. The idea is that individual actors in the market will continuously make mutually beneficial trades until at some point all the good are allocated optimally. Any trade that would take place after this Pareto efficient point will at least make one individual worse off. Given any initial distribution of resources, the Pareto efficient point is a perfectly competitive equilibrium that can be reached in a market. If both actors gain from a trade and everybody else is at least as good off, what
objection can be made? The efficiency reasoning seems appealing and value-free.
The powerful models can describe the distribution and price in a fixed point in time given initial distributions and preferences, but the dynamic aspects of an economy, like social change of populations and differing human motivations are neglected. There is no possibility that the value of some goods may change once it is traded as a commodity. At the time these ideas were developed, mostly only simple material goods were for sale. It was probably unthinkable at the time what goods are now for sale in the world we live today. Maybe now the world has changed, the models need a refinement.
2.5.2 Two objections against efficiency: fairness and degradation
In addition the argument that reaching a Pareto efficient outcome trough a market could change the perception or corrupt the meaning of the exchanged goods, Pareto efficiency says little about fairness. Amartya Sen notes that ‘a state can be Pareto optimal with some people in extreme misery and others rolling in luxury, so long as the miserable cannot be made better off without cutting into the luxury of the rich.’ It is important to notice the difference of this argument from the rest of this thesis.
The argument of Sen is about the unfairness of the initial distributions of wealth. Trades are made because the poor need money and are implicitly forced to do so. The argument of this paper is that a monetary market itself degrades the meaning of the exchanged goods or activities.
The difference can be illustrated by the case of prostitution. A fairness objection like Sen against prostitution is that prostitutes are often in a weak position, and do not have much other choices than to sell their body for money. The exchange is not really voluntarily. The other objection is about the commercialization-effect. Even if prostitutes are not forced to sell their body and are completely content with it, an objection can be made if you believe that commercializing this, degrades the integrity of women.
2.5.3 Efficiency and social norms
The assumption that more efficiency increases the total utility explains why some economists argue to create a market to buy and sell pollution rights, legalize the sale of kidneys, and prefer the more efficient cash gifts over presents. That possibility that social norms get lost is often ignored.
The recent book ‘Scroogenomics: Why You Shouldn’t Buy Presents for the Holidays’ is
exemplary for this quest for efficiency and exposes characteristics of market reasoning. Standard economic theory, and according to Waldfogel common sense, predicts that other people will never spend the money on a gift as well as you would have yourself since only you know your own preferences best. Relative to how much satisfaction their expenditure could have yielded, the act of giving a present ‘typically destroys value, and can only, in the unlikely best special case, be as good as giving cash’. Waldfogel calculated that the tradition of giving presents at holidays like Christmas results in a loss of 13$ billion in satisfaction every year. ‘Americans celebrate the holidays with an orgy of value destruction’, Waldfogel concludes.17 Waldfogel thinks that the reason gift giving still exists is the stigma of cash giving. Without the stigma, people would give cash and people could choose what results in maximizing their satisfaction. Ideally, the ‘dysfunctional institution’ should be defeated. Similarly, Levitt and Dubner believe a cash gift is ‘a social taboo that crushes the economist’s dream of such a beautifully efficient exchange’.18
However this reasoning might seem value neutral, Sandel (2012) points out that Waldfogel never questions whether this stigma might be justified in any way. Sandel argues it could be possible that the stigma against monetary gifts reflects a social norm that is worth preserving, like norms of attentiveness bound up with friendship. Also, the reasoning of Waldfogel is only logical with the underlying important assumption that maximizing the satisfaction is the best and only way to treat a friend, instead of trying to deepen or complicate a relationship.
Another example where efficiency is not appropriate because it could change the meaning of the ‘good’ is in child adoption. We do not allow adoption children to be bought and sold in a
marketplace. Even if some children would be better off and no other children would be worse off people would object. These children would at some age discover that their parents paid for them and observe their monetary value, which is the wrong way to value children.
Some would say this is different because humans are not goods. But neither do we allow people to buy and sell their voting bill in a voluntary exchange. Tobin noted: ‘Any good second year graduate student could write a short examination paper proving the voluntary transactions in votes would increase the welfare of the sellers as well as the buyers’. Both efficiency and freedom seems to be improved. One of the possibilities why we do not allow this could be that
putting voting bills up for sale could degrade the meaning of voting. The social norm of voting as a public deed is the crowded-out by market norms of treating it as a commodity for sale. It
seems, the utilitarian argument and Pareto efficiency that markets tend to improve total utility of both does not seem to be decisive here.
In addition, even an objection can be made to the utilitarian argument to blindly maximize the total satisfaction of individuals without giving any moral judgment. In some cases where moral values play a role this is more appropriate than in the case of material goods. This can be made clear by Sandels’ rhetorical questions: ‘If some people like opera and others like dogfights or mud wrestling, must we really be nonjudgmental and give these preferences equal weight in the utilitarian calculus? (…) Should your desire to teach a child to read really count equally with your neighbor’s desire to shoot a walrus at point-blank range?’
2.5.4 Conclusion
Efficiency is an important subject economics. Markets are efficient tools to allocate goods. The powerful ideas of early economists rely on the assumption that markets do not change the way goods are valued. In the time that those ideas were developed, this assumption made sense for the material goods that were for sale at the time. But in a world where more and more is put up for sale, this might be outdated.
Reaching more efficiency with the use of money or market mechanisms is not always better if the commercialization-effect is neglected. It is questionable whether a higher level of efficiency, which the markets are known to achieve, is something we should always strive for if social norms that we wish to preserve are crowded out.
2.6 Do markets degrade morals? 2.6.1 Evidence from Falk and Szech
In a recent experiment, Falk and Szech (2013) have tried to find empirical evidence of whether a bilateral or a multilateral market can erode morals. More specific, the authors studied if market interaction can change how individuals view negative externalities (i.e. value harm and damage done to third parties).
In the experiment, one group of subjects faced a binary choice. Either they could choose to receive money (10 euro) and accept the killing of a mouse, or they could choose to receive no money and save the mouse from being killed. Another group received a bilateral market
treatment where a randomly assigned buyer and seller could bargain continuously over the price to accept the killing the mouse. The third group received a multilateral treatment where multiple buyers and sellers could bargain over the price.
In the individual treatment group, the fraction of subjects who accepted the killing of the mouse was 44.8%. In contrast, the willingness to kill the mouse for 10 euro or less was much higher in the market treatment: 72.2% in the bilateral market and 75.9% in the multilateral market.
What is different in this study compared to earlier crowding-out studies is that the level of the extrinsic monetary reward remains the same. The monetary incentive was essentially the same in the individual and the market treatment: sellers could either refuse to trade and save the mouse from being killed, or accept a monetary amount and thus accept the killing of a mouse. There only seems to be a difference is the market-structure. It seems that market interaction changes the way individuals value damage done to third parties. In this sense, market interaction crowds-out nonmarket norms.
This study points in the direction that markets are not solely an organizing principle or institution. The market structure itself could affect the way we value the goods which are exchanged in the market as well. Whether market interaction has lasting eroding effects on the values of individuals is explored in the experiment (see Chapter 3).
2.6.2 Three corrupting features of market interaction
Falk and Szech give three reasons how market interaction could erode moral standards.
1. Shared responsibility
In the market treatment, it takes two to agree on a trade. Therefore the feeling of responsibility and guilt may be lower when they are shared with the other party. This effect has been found in a number of psychology studies, for example Latané and Darley (1968) and Latané and Nida (1981).
2. Market reveals information
This argument is similar to the argument of Gneezy and Rustichini why the late pickups
increased after the introduction of a fine. Although, as I argued before, this is probably only part of the explanation. In a market, the behavior of others can be observed. This reveals information of the social norm. Seeing others accepting the killing of a mouse could render it more
acceptable to accept a trade. Also, the mere existence of a market could signal information about the appropriateness of trading. This is in line with research of Fischbacher and Gächter (2001) and Cialdini, Reno and Kallgren (1990).
3. Framing and focus on materialistic aspects.
Markets could provide a strong framing and focus on materialistic aspects, according to Bowles (2011) and Krupka (2009). The negotiation in a bilateral market could divert attention to the consequence of killing a mouse when agreeing on a trade.
This first part of this argument that markets leads people to focus on material aspects seems credible. But the additional assumption that the attention is diverted seems to suggest that market interaction only distracts people from possible adverse consequences of their decision, while the way negative externalities are values should remain intact. Following this reasoning, if the market-treatment would be removed again, then individuals would not be diverted anymore and should make the same decisions as the subject group who only received the individual treatment. In this case, there is no possibility that market interaction can leave its mark and change or crowd-out the way negative externalities are valued. In the experiment this is examined.
3. Experiment
3.1 Introduction
This experiment is an extension to the study of Falk and Szech (2013) described in paragraph 2.6. In that study, empirical evidence was found that market interaction can change how individuals value negative externalities.
In this experiment, subjects made a decision between earning money or saving the life of a chicken. The reason a chicken is chosen for this experiment is similar to the choice of a mouse in the experiment of Falk & Szech. According to the authors, the killing of an animal involves a drastic, irreversible decision and is useful to study moral conflict. This largely depends on cultural factors but basic consensus exists that harming others can be considered immoral (Haidt & Kesebir 2010).
In the controlled environment of the laboratory, students are randomly assigned to different treatments. The decisions in an individual treatment is compared with a bilateral market treatment to see whether the institution of a market can cause individuals to make different decisions. Furthermore, it is studied whether bilateral market norms permanently crowd-out the norms in the individual treatment. To test whether markets permanently change preferences, an individual treatment will be conducted after a market treatment.
3.2 Experimental design
The experiment consists of two parts. One part is an individual treatment, the other is a bilateral market treatment. Only the order in which subjects received this treatment is different (see Figure 2). Half of the subjects received the individual treatment first (group 1), and the other half received the bilateral market treatment first (group 2). The participants were informed that the experiment consists of two parts, but they were not informed that half of them received the treatments in a different order.
Group 1.
Group 2.
Figure 2. Experimental design.
Subjects are randomly assigned, as they were asked to randomly pick a card with a number from a closed deck of cards that corresponded with a cubicle in the lab. They were informed that all their choices were anonymous. Neither the experimenter nor any other subjects would know who made which choices, and the payment would also be private so nobody could observe afterwards what their choices were.
Subjects were fully informed that the choices they made have real material consequences. Although it is true that the chicken would be killed or live based on their decision, the default outcome was that it was going to be killed at the farm. As a result, participants would be able to save a chicken that would otherwise have been killed anyway. Subjects were uninformed about this. The consequences are still exactly the same, but different framing could have led to a different perception according to the omission-commission bias (Baron et. al 1991).
This study was done in a series of 6 other master student experiments. So when participants chose the option to save the chicken and earn 0 euro, they would not leave empty handed but still received the money they could earn in all other experiments and a show-up fee of 7 euro.
The individual treatment
The individual treatment is a simple binary choice. Subjects can choose option A and earn 7.50 euro, which results in the killing of a chicken. Or subjects can choose option B and earn 0 euro, but the chicken will be saved from killing and will kept and in an enriched, appropriate
environment until it will die of natural causes. See Appendix 1 for the complete instruction page
